Fashion Marketer LuLaRoe Sued Over Sales Tax Charges

(CBS NEWS) LuLaRoe, a multilevel marketer of brightly colored women’s fashions, is in trouble with the law. After surging in popularity in recent years, it’s now facing a federal lawsuit accusing it of collecting sales taxes from customers in states that don’t levy a tax on clothing, while consumers are also complaining about its business practices.

According to the Feb. 17 lawsuit filed in U.S. District Court in Western Pennsylvania, LuLaRoe’s independent representatives are required to use a proprietary online point-of-sale software called “Audrey” that automatically charges customers sales tax based on the location where the salesperson is based rather than the taxing authority where the customer is located.

“Defendant overcharges buyers up to 10.25% every time a consultant who lives in a jurisdiction that taxes clothing makes a sale where delivery is made to a jurisdiction that does not,” said the suit, which is seeking class-action status. It added that LuLaRoe “is aware of these tax collection and assessment procedures and knows how to assess sales tax on its clothing sales.”

In fact, the lawsuit says LuLaRoe told its consultants that sales tax would be assessed on “Audrey” based on the “ship to address” and that they would need to add the customer’s address before payment was finalized so that the appropriate tax could be calculated. E-commerce sites such as Amazon (AMZN), eBay (EBAY) and Etsy (ETSY) all have processes to make sure that sales tax is collected correctly as do smaller operations.

In a statement to CBS MoneyWatch, LulaRoe blamed the errant charges on a “technology system failure” from a former vendor.

“We are fully aware of this issue and have invested significant resources to address it,” LuLaRoe said. “When affected customers have contacted us to identify their proper location, we have immediately issued them a refund for sales tax overcharges. In addition to contracting a new payments vendor, we are proactively working to ensure that all affected customers are refunded for sales tax overcharges.”

The plaintiff in the case is Rachael Webster of Allegheny County, Pennsylvania, who was charged $35.16 for sales tax on a dozen LuLaRoe purchases she made in 2016, even though Pennsylvania doesn’t tax clothing sales.

If the suit gains class-action status, the stakes could be dramatically higher. “My suspicion is that there is a substantial percentage of consumers who make purchases from LuLaRoe through out-of-state ‘consultants,’” said R. Bruce Carlson, a partner with the Pittsburgh law firm of Carlson Lynch Sweet Kilpella & Carpenter who’s representing Webster. Consumers search for the representative that has the item they’re interested in purchasing.

“Because of that, I think the potential damages could be substantial,” Carlson said, declining to provide a specific dollar estimate.

According to the court filing, sales of the Corona, California-based company are estimated to have climbed by 600 percent over the past 24 months, reaching $1 billion last year. LuLaRoe has no stores or e-commerce sales. Instead, it sells shirts, skirts, dresses and leggings through its network of more than 35,000 “fashion consultants.” If the lawsuit’s forecast is accurate, LuLaRoe would rank among the country’s 10 largest multi-level marketers (MLM), a segment that’s now led by Amway, which had $9 billion in annual sales.

LuLaRoe customers have also flooded the Better Business Bureau with more than 200 complaints, alleging in some cases that they were charged incorrect sales tax and double-charged for merchandise. They also complain that the company’s products were of poor quality and that they had difficulty reaching customer service to discuss their gripes. As a result, BBB gave LuLaRoe a grade of “F.”

“On July 27, 2016, BBB notified the business of our concerns and requested their voluntary cooperation in eliminating the pattern of consumer complaints,” BBB said on its website. “As of today, the business has not responded to our request.”

Webster’s attorney Carlson said he was pleased that LuLaRoe acknowledged the problem.

“That’s encouraging to hear,” he said. “Of course, the universe of consumers who have been impacted by this issue is much larger than those who have come forward to request refunds. Hopefully, they will take a similar approach regarding a broader universe in response to the litigation.”

LuLaRoe was founded in 2012 by Deanne Stidham, who came up with the company’s name by combining the names of her three oldest grandchildren (Lucy, Lola and Monroe). Stidham started by designing skirts at her family’s kitchen table, and they took off once word spread on social media.

As Business Insider noted last year, thousands of people -- many of whom are millennial moms “are earning “massive profits” selling LuLaRoe. Stidham’s husband, Mark, is LuLaRoe’s CEO.

MLMs operate using independent sales representatives who make money through both product sales and recruiting additional people to their teams. According to “Stay On the Level,” a website that reviews MLM operators, new LulaRoe representatives can expect to invest between $5,000 and $7,000 in new products. However, most of the company’s representatives didn’t earn a bonus in 2015, the latest disclosure that’s available.